Office rental growth losing steam amidst surge in US treasury yields

Property curbs, high prices turn off speculators.

According to Maybank Kim Eng, although rental and prices continued to go up in 1H, we noticed the growth is losing momentum amidst the surge in US treasury yields in 2Q13, some speculators turning away due to property curbs and high prices. Rental and price indexes have just increased by 0.7% QoQ and 0.6% QoQ respectively in 2Q13. Office rental yield was only at 2.9% in Aug-13.

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We initiate on the HK Grade A office sector with a neutral view and a slight negative bias.

Our forecasts for 2014 look for a range of -5% to +5% rental change YoY, with different submarket performance expectations with Central being the weakness (est. 5% decline YoY in rental) and decentralized areas like Kowloon East, Wan Chai and Causeway Bay being the stronger (est. 5% rental growth YoY).

Weak hiring sentiment should dampen overall rental growth in 2014 especially in core districts.

Per the 3Q13 Hudson Report, only 35% of companies had expectations to increase their hiring in permanent positions in 4Q13, which is lower than the average of 47.6% from 2007 to 2013.

We note the hiring sentiment is highly correlated to the change in HK office rental and lead the change by about 2 quarters.

We believe decentralization would continue to support rental growth. Despite rental in traditional office districts have dropped by 3 – 5% YoY recently, the rental gap is still high enough to provide sufficient economic initiatives to tenants to decentralize their offices.

Completion/uptake equilibrium; divergent outlook for different sub-markets. HKRVD forecasted the completion of Grade A office in FY13F and 14F to be 123k and 132k sq m, slightly lower than the 7-year average annual uptake of 166k sq m.

We see the supply-demand as largely at equilibrium and the general office market rental trend may be stable in FY2014. However, districts with higher vacancy rates will still be under pressure with landlords being more aggressive to lift their occupancy rates.